Are Medical Prices Still Declining? A Systematic Examination of Quality-Adjusted Price Index Alternatives for Medical Care

Health care spending has grown rapidly over the past several decades. However, whether this growth rate may be considered too high depends on the value of the increased length and quality of life due to medical treatment as well as on the increased spending. One way to capture the tradeoff between benefits and costs is with the framework of price measurement. Previous literature has constructed quality-adjusted price indexes for different medical conditions such as acute myocardial infarctions (Cutler et al. 1998) and major depression (Berndt et al. 2002). In general, these studies found that the increased benefits of the technological advances in medical care greatly surpassed the increased spending and therefore that price growth in medical care when measured this way was negative. There is no consensus, however, on what method to use for quality adjustment in medical price indexes. In this paper, we explore the different methods both theoretically and empirically with a view toward exploring how the methods could be implemented in practice. The theoretical model shows that generally the different methods produce the same results when the increase in monetized benefits is approximately equal to the increase in monetized costs. To explore the methods empirically, we construct quality-adjusted price indexes for three acute medical conditions (AMI, heart failure, and pneumonia) for the period 2001-2014 using data for Medicare fee-for-service (FFS) beneficiaries. We measure spending with total spending per patient around the hospitalization, with varying windows and we isolate the contribution of medical care to improvements in outcomes by measuring short-term mortality following the hospitalization. For both our spending measures and outcome measures, we risk-adjust based on the characteristics of the patient. We find spending per patient rose from 2001-2010 and stayed level from 2010 to 2014 while mortality exhibited the reverse pattern. We also find that quality adjustment has a large effect on price growth. As measured by a benchmark cost-of-living index (COLI) where the benefits are measured by the utility value of increases in life expectancy, the average prices for these conditions decline steeply from 2001 through 2010. Following 2010, the declines in quality-adjusted prices level off, at the same time that we observe spending per patient holding flat. In other words, the quality-adjusted prices and the trends in spending per patient appear to move in different directions, highlighting the important role of quality adjustment. When other quality adjustment methods are applied, we find a wide dispersion in the growth rates of different quality-adjusted price indexes. According to our theoretical model, this dispersion results from the increases in benefits exceeding the increases in spending for these conditions; only the benchmark COLI fully captures the value of the increases in benefits to patients.